Through the release of a ministerial cabinet act, MoF unveiled on November 12 the long-awaited Greek bank recapitalisation scheme. Although, most of the announced terms were rumoured or leaked in the local press in the past few weeks, there was a negative reaction in the domestic market with banking shares plunging 14.4% on the day of the announcement.

We summarize below the key highlights of the ministerial cabinet act on bank recapitalization terms:

Banks should meet a common equity capital ratio of 6%, which is introduced for the first time. The calculation of this capital ratio excludes existing preference shares (issued to the Greek State back in 2009) and any contingent convertible bonds (CoCos).

Private shareholders will be required to cover 10% of the capital needs to meet the aforementioned 6% target, while the remaining will be covered through the issue of common shares to the HFSF.

The issue price of the capital increases will be will be equal or lower between: 1) a 50% discount on the weighted average stock price over the past 50 sessions (prior to the announcement date) and 2) the stock price on the prior to the announcement date. The issue price for private investors cannot be lower than that of HFSF.

If private investors cover at least 10% of right issues, they will be granted up to 9 warrants, which can be exercised every six months over the next 54 months.

The exact number of warrants will be determined (post the completion of capital increases) dividing the number of HFSF shares by the number of private shareholders shares. Assuming that private shareholders cover the minimum required 10%, they will get 9 warrants, if they cover 20% they will receive 8 warrants etc.

The exercise price of each warrant will be determined applying a 3% interest plus a premium of 1 percentage point per annum over the issue price (of capital increases). Thus, warrants may be exercised at a premium of 4% over the issue price in the first year, 5% in the second year up to 8% in the fifth year.

The remaining capital requirements – above the 6% common equity ratio – to meet the BoG core Tier I target (estimated at 9%) will be covered through the issue of CoCos by the banks to the HFSF. CoCos will have a 5-year maturity and carry an annual coupon of 7% with a step up of 0.5 percentage points per annum to reach 9.5% in the fifth year. Note that it is not yet clear whether the aforementioned 3% capital gap could be covered by the existing preference shares, which amount to €4bn for the top-4 banks and are equivalent to 2.2% of their Q1’12 RWA.

Banks may repurchase CoCos under the condition that their Core Tier I ratio (after the repurchase) exceeds BoG threshold (estimated at 9%).

If: a) CoCos are not repurchased by a bank within five years or b) Core Tier I ratio falls below 7% or the bank is not viable or c) the bank is not able to pay the annual coupon, then CoCos are mandatorily converted to common shares. The conversion price equals to a 50% discount on the issue price (of the capital increases) for the first two cases and to the 65% of the weighted average stock price over the previous 50 sessions (prior to the conversion) for the third case. The aforementioned three cases resulting to a mandatory conversion of CoCos to common shares along with the annual cost and the cost of repurchasing CoCos, consist a potential risk over the long-term.

It is still not yet clear whether deferred tax asset (DTA) due to PSI will be recognized for regulatory purposes with deferred taxation prolonged, as it was previously rumored, from 5 years to 30 years. It is reminded that three of top-4 banks (namely Alpha Bank, Eurobank and Piraeus Bank) have incorporated DTA (with a corporate tax rate of 20%) in their reported Q1’12 core Tier I ratios last May. Note also that a potential increase of the corporate tax rate to 28% may also have a further positive impact on capital shortfall calculation.

Regarding the timetable of the recapitalization process, a draft troika report suggests it will be carried out in three phases:

First the HFSF will provide further bridge recap facility in a form of capital advance to the top-4 banks by the end of 2012, on top of the €18bn provided last May.

In a second step, by the end of January 2013, HFSF will subscribe to 100% of any convertible instruments (such as CoCos) that the banks will decide to issue.

In the third phase, by the end of April 2013, top-4 banks will complete the right issues and any shares not subscribed by the private sector will be acquired by the HFSF subscription to the common equity.

The disclosure of bank recap terms is clearly the first key step towards the launch of recap process. It is obvious that the key prerequisite for the trigger of the next phases is the disbursement of the next tranche of €31.5bn, the bulk of which will be allocated for bank recap.

It seems to me that the bank recapitalization scheme is quite shareholder-friendly. Everyone seems to agree that Greek banks are ‘hopelessly bankrupt’ (Prov. Varoufakis’ words). When Enron was hopelessly bankrupt, their shareholders were wiped out. Why would the shareholders of Greek banks be treated so nicely?

I don’t think that Enron and Greek banks are comparable. The reason behind Greek banks’ insolvency is mainly their particiaption in the PSI and it was agreed (from the beginning) that they would be ‘officially’ recapped due to the heavy losses arising from PSI. If PSI wasn’t the key reason, but Blackrock or something else, it would be a different case.

Furthermore, although there are incentives for shareholders, they are strictly (directly or indirectly) tied to the potential growth of the greek economy and the banks’ future stock prices. Note also that the deep discount of issue prices for right issues materially increases dilution even from the first phase.

Moreover, banks have to repurchase preference shares and CoCos, carrying an annual coupon of 10% and a step up 7% respectively, meaning that their earnings may be proved not enough to both pay interest and repurchase these convertible instruments. So the overall potential dilution, on top of the intital stemming from the common equity target of 6%, is substantial.

These are in my view the concerns of shareholders, which are related to the short- and the medium-term prospects of Greek banks, following the announcement of final recap terms.